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US inflation rate: Will slowing price growth bring rate cuts in 2023?

By Mensholong Lepcha

Edited by Jekaterina Drozdovica

17:26, 28 December 2022

INFLATION word on calculator in idea for FED consider interest rate hike
Annual US CPI inflation rate peaked in June at 9.1% Photo: Deemerwha studio / Shutterstock

The Inflation rate in the US slowed towards the end of 2022, following a year of aggressive monetary tightening by the US Federal Reserve (Fed).

The US central bank was not expected to ease its restrictive policy anytime soon, as of late 2022. Inflation data will be a market-moving economic metric in 2023 and continue to attract close scrutiny from policymakers and investors.

Will price pressures ease in 2023, and can we expect rate cuts as inflation slows further? Let’s take a look at the US inflation predictions and more below.

What is inflation?

According to the US Fed, inflation is a general increase in the overall price level of goods and services in an economy.

Inflation is an influential economic metric based on which policymakers carry out their monetary policy decisions. The US Fed is among the central banks that follow an inflation-targeting monetary policy.

The Fed monitors different price indices to evaluate changes in inflation. Among these indices, the Fed said the personal consumption expenditures (PCE) index was the “most consistent over the longer run with the Federal Reserve’s mandate for maximum employment and price stability”.

The consumer price index (CPI) and the producer price index (PPI) are other inflation gauges tracked by the Fed. The CPI is the most watched inflation indicator in the world. The PPI is a price index that measures the changes in the selling prices received by domestic producers for their goods and services.  

The US central bank set an inflation target of 2% “over the longer run”, as measured by the annual change in the PCE index.

The PCE index is published by the US Department of Commerce on a monthly basis. The US CPI index and PPI index are published by the US Department of Labor on a monthly basis.

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US inflation rate history: That '70s Show

In our study of US inflation rate history, we focused on inflation in the 1970s. During that time, the US economy experienced similar conditions of high inflation and rising interest rates as observed in 2022.

The 1970s was a decade of raging inflation in the US brought on by an energy supply shock following the start of the Arab-Israeli War in 1973. Other factors also included food supply shocks and US President Richard Nixon’s economic policies, which included the end to dollar convertibility to gold, or the gold standard.

According to Alan Blinder, former vice chair of the US Fed, US CPI inflation averaged 6.8% across the decade, which saw episodes of “double-digit inflation” in 1974 and 1979-1980. CPI inflation rates rose as high as 14.8% and PCE inflation accelerated as fast as 11% in the first half of 1980. 

Paul Volcker, who was appointed as the Fed’s Chair in August 1979, took the federal funds rate to 20% in 1981 to fight inflation.

More recently, the CPI inflation rate in the US trended close to the targeted 2% mark in most years during the last decade.

US inflation rate, 1960 - 2022

There were times in 2015 when the US economy was experiencing inflation close to 0%. The post-Covid era was completely the opposite as US inflation rates surged to near-30 year highs.

The inflation rate in the US climbed gradually from the lows of the Covid-19 pandemic. A flush of excessive liquidity amid ultra-low interest rates and a commodity supply shock following the start of the Russia-Ukraine war pushed CPI inflation to peak at 9.1% in June 2022. PCE inflation also peaked in June 2022 at 6.8%.

Latest inflation news: US price growth is slowing 

On 13 December 2022, the US Department of Labor reported that the annual CPI inflation rate fell for the fifth consecutive month in a row to 7.1% in November, down from 7.7% in October and 8.2% in September.

The data reinforced the belief that inflation is now on a sustained downtrend as a result of the Fed’s fast-paced rate hike cycle since March 2022.

US inflation rate in 2022

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According to the report, food items were the biggest contributors to monthly price increases in November, while the energy basket posted its fourth monthly price decline in five.

PCE index data mirrored the story of easing inflation. The annual PCE inflation rate came in at 5.5% in November, down from 6.1% in October.

The positive news sparked a brief rally in the US equity markets (SP500) and a fall in US dollar rates (DXY) on expectations of slower rate hikes by the US Fed. The US dollar has enjoyed a year of big returns in 2022, supported by the Fed’s ultra-aggressive rate hike cycle. 

Dollar Index (DXY) live price chart

“Soft US inflation will reinforce the view that the interest rate peak is in sight, but having been hurt by the 'inflation is transitory' narrative, the Fed will be wary about a conviction call in this environment,” said James Knightley, chief international economist at ING.

The US Fed hiked policy rates by another 50 basis points in its last monetary meeting of the year. Fed Chair Jerome Powell reiterated the Fed’s inflation-fighting stance and said:

“The Committee anticipates that ongoing increases in the target range will be appropriate in order to attain a stance of monetary policy that is sufficiently restrictive to return inflation to 2 percent over time.”

Knightley said in a 13 December note:

“In this regard, to get inflation to 2% YoY (year-on-year) over time we need to see MoM (month-on-month) readings average 0.17% MoM. We are not there yet.”

US inflation rate forecast for 2023 and beyond

The latest US inflation forecasts by the Federal Reserve raised PCE inflation expectations to 5.6% for 2022, up from the previously-stated forecast of 5.4%.

The US inflation rate in 2023, in PCE terms, was expected to moderate to a pace of 3.1%. Official economic projections from December 2022 saw PCE inflation at 2.5% in 2024 and 2.1% in 2025.

The unemployment rate, a key metric analysed to anticipate the Fed rates policy path, was projected to increase from 3.7% in 2022 to 4.6% in 2023 and 2024.

The US Fed reserve cemented its hawkish stance by raising federal fund rate projections to 5.1% for 2023, up from the previously-stated 4.6%.

Elsewhere, Knightley’s US inflation predictions saw inflation rates at 2% by the end of 2023.

“We think the downturn will be more painful than the Fed is currently anticipating and that recessionary forces will dampen price pressures while the composition of the US inflation basket, which is heavily weighted to shelter and vehicles, will facilitate a far faster drop in annual inflation readings than in any other major economy,” said the ING economist.

Knightley indicated that the US Fed could “respond with stimulus” from the third quarter of 2023. “Historically the Fed has on average only waited six months between the last rate hike in a cycle and the first rate cut,” he added.

Meanwhile, Trading Economics, as of 28 December, expected the US inflation rate to trend at 1.9% in 2023.

Finally, investment advisor Vanguard Group said that inflation has already peaked in most markets but the stickiness is coming from “price pressures tied to labour markets and wage growth” which will take longer to reduce.

“Rapid monetary tightening aimed at bringing down inflation will ultimately succeed, but at a cost of a global recession in 2023,” said Vanguard. The firm saw central banks hitting their 2% inflation targets “only in 2024 or 2025.”

When researching the US inflation rate outlook, it’s important to remember that analysts’ forecasts can be wrong. We encourage you to always conduct your due diligence by reading the latest news, conducting technical and fundamental analyses, and studying a wide range of economic commentary. 

Remember, your decision to trade should depend on your attitude to risk, your expertise in the market, the spread of your portfolio, and how comfortable you feel about losing money. You should never trade more than you can afford to lose

FAQs

What is the current inflation rate in the US?

On 13 December 2022, the US Department of Labor said the annual CPI inflation rate fell for the fifth consecutive month in a row to 7.1% in November, down from 7.7% in October and 8.2% in September.

Has inflation been going up in the US?

The CPI inflation rate in the US peaked at 9.1% year-on-year in June 2022. Since then the US economy has reported five straight months of slowing inflation rates. The annual CPI inflation rate for November 2022 came in at 7.1%.

Why is inflation so high right now?

Strong economic growth, low unemployment, energy supply shocks and prolonged ultra-low interest rate conditions are some of the main factors of high inflation in the US.

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